September 2008 Archives

I'm no math whiz, so I can sympathize with first-time home buyers who are confused about what the hullabaloo over the federal takeover of Freddie Mac and Fannie Mae means. The details are probably more complicated than most of us can handle when thinking about factors like choosing the right house, making a good offer, and having the proper inspections.

Luckily, if you're buying a house, it isn't necessary to understand the complicated relationship of these behemouth organizations to the real estate market and Wall Street. But even if you're completely disinterested in the details, you do need to know one thing: the takeover does affect interest rates, which reached a 7-month low this week. (If you're curious, the reason this is so is explained here.)

If you're a first-time buyer, this has a huge impact: it makes your house cheaper. Okay, not literally. But while the seller's price tag doesn't change, what comes out of your pocket does. For example, if you paid a rate of 6.25% for a $300,000, 30-year fixed rated mortgage, your monthly principal and interest payment would be almost $1,850 (and you'd pay a whopping $364,974.58 in interest over that 30 years). But if your rate is 5.75% on the same mortgage, your monthly payment is only around $1,750. And you'll only end up paying $330,258.68 in interest -- no small sum, but still much less.

So while the price a seller advertises is an important factor in determining home affordability, low interest rates are nothing to scoff at, either. You have Fannie and Freddie to thank for that.

Nothing fits so well into your budget as something that's entirely free. And the plus side of living in a consumer society on overdrive is that people are increasingly willing to just give stuff away rather than figure out what else to do with it.

Sometimes being alert to what's on the street is enough. Even in my own, less-than-upscale neighborhood, I've picked up post-garage-sale finds ranging from clothing to file drawers to my very own Oakland A's baseball cap (I'm not a native, but I'm told it's a must-have around here.) And the online world has added a new layer of possibilities. If you're not yet addicted, check out the free section of Craigslist. (It's there under "For Sale.") In the SF Bay Area, at least, you'll find everything from desks to dirt to dressers.

Another favorite is Freecycle, a grassroots nonprofit where members both advertise giveaways and post requests for what they need.

Most would-be homeowners have heard of one of the primary benefits of purchasing: the tax-free gain you get when you sell. If you own and live in your house for at least two out of the five years before you sell, you do not have to pay taxes on the first $250,000 of gain from the sale ($500,000, if married and filing jointly). Most first-time buyers don't need to hear more -- their first homes are stepping stones; they don't expect to be in their homes long enough to exceed these maximums.

But be careful if your plan is to hold on to your home and rent it out -- not an uncommon strategy for many homeowners today who need to move but aren't ready to sell at the low prices dominating many real estate markets. When it comes to taxes, rental property isn't treated the same as a principal residence. You are taxed on the full gain when you sell, usually at 15% (the current federal capital gains rate for most taxpayers).

To get around this, rental property owners used to be able to convert rental properties to personal residences. If they lived there for two out of the five years before sale, they'd qualify for the principal residence exclusion. The law has changed, however. Now, the time the property is not your principal residence is considered "non-qualified use". You are only permitted to exclude gain for qualified use -- the time the property is your principal residence. So if you own a property for 10 years and only live in it for the last two before selling, you can exclude 20% of your gain and will have to pay taxes on the remaining 80%. (Non-qualified use before 2009 doesn't count, however.)

You don't need to worry about this if you don't ever plan to rent your house out. If you think you might, however, be aware of the tax implications of doing so.